Posted by: Josh Lehner | July 23, 2021

Educational Attainment Disparities (Graph of the Week)

Happy Friday! I’m working on a larger project and in the midst of doing it, created the following chart to help visualize the data. Honestly it’s a bit of a Rorschach test when it comes to the intersection of educational attainment with age, sex, and race and ethnicity. Before this gets buried, or rather embedded into the larger analysis, I wanted to elevate it be the latest edition of the Graph of the Week. So many possibilities, opportunities, and historical inequities can be seen here. Have a good weekend.

Posted by: Josh Lehner | July 20, 2021

Labor Supply Optimism

The labor market is tight. Firms are looking to fill record job openings and the number of available workers is lower than before the pandemic. The acute severity of these dynamics will persist for a few more months, but come late fall they should lessen some. But even then labor supply will merely rebound to roughly where it was pre-COVID. As such it’s important to keep in mind that the labor market will remain tight, largely due to demographics. Labor will not be abundantly available come the winter, just as it wasn’t in 2018 or 2019.

There are two main reasons I am a labor supply optimist. The first is we, as humans, like to do things. We like to feel productive, to receive feedback and affirmation. Of course when we don’t get this at our jobs, it creates its own challenges, which is something I think we’re seeing with our front-line service workers during the pandemic.

The second reason is at a base level we all need to pay the bills. To do this, the vast majority of us need to work to earn a paycheck. Given the current strong incomes and excess savings, there are fewer people who need to work today, but will again in the near future. My best guess is this will not happen immediately after UI expires in early September but rather a couple of months later as the savings is spent down.

This cycle is different. We know that. But one of the stories we told ourselves about the last cycle was labor would only return with jobs were more plentiful and paid better. Clearly this was not happening in the aftermath of the financial crisis but over the second half of last decade these dynamics did play out. I do think a similar pattern can be seen this cycle, but on a much accelerated time line.

First, job opportunities are already plentiful. Businesses are looking to fill a record number of vacancies. These vacancies are exacerbated, or increased more than expected, by a higher number of quits and retirements. Remember every time a worker retires or quits, it leaves an opening that needs to be filled. Furthermore, the lower participation rates during the pandemic means the normal industry churn and therefore the number of openings is exacerbated as well. Even so I think it is fair to say that given strong consumer demand, businesses are trying to staff back up and expand even more if they could find the workers. Labor demand is not holding back the economy, unlike a decade ago. This is encouraging!

Second, the jobs are paying higher wages today. This is different than last cycle as well. Wage growth, especially in the low-wage industries is rising quickly. Firms are competing more on price to attract and retain workers. This is a necessary condition to see strong labor supply. See our previous deep dive into wage growth for more.

OK, so how is this actually going in terms of the labor market? I would argue pretty well overall, but not perfectly. We are currently recovering much faster than recent cycles, but it is possible that we could recover even faster if not for the things temporarily holding back labor supply.

When it comes to those labor supply constraints the first (and only) one folks want to talk about is the enhanced unemployment insurance benefits. The average UI check in Oregon is equal to 100% wage replacement as of a couple months ago. That is a disincentive for some workers. The replacement rate is higher for some low-wage workers, especially those working part-time as the $300/week federal plus up is a lump sum given to all who qualify.

Two things.

One, the improvements in the labor market mirror the patterns seen in continuing UI claims. They are moving together. That said it does not mean that without UI the recovery couldn’t be faster. It also means there is not this giant pool of potential labor that is immune to the broader labor market changes. They may not be working but they are paying attention and responding to the job opportunities and higher pay.

Two, I argue it’s not just UI but the overall strong household income that matters most today. UI is a part of that. But remember that the recovery rebates in aggregate are the same size as UI. It’s just one was disbursed three times while the other trickles out a little bit every week. Additionally, underlying income growth absent federal aid is also strong, see our previous report for more on income trends during the pandemic. Finally, the new child tax credit will further strengthen household incomes today as well.

Bottom Line: Demographics will weigh on labor supply for the next decade. However among prime working-age Americans I am a labor supply optimist. Possibly even about teenagers as well.

Jobs are already plentiful and wages have leveled up. This cycle is different, and the accelerated labor market dynamics are proof of that. Once the temporary constraints of the pandemic ease, which will take months, not weeks, workers will return in greater numbers. That said firms will still find it challenging to attract and retain workers. Underlying increases in wages and benefits will continue.

Posted by: Josh Lehner | July 15, 2021

Understanding the Child Tax Credit in Oregon

This morning the new, enhanced Child Tax Credits began appearing in people’s bank accounts. In a nutshell, by increasing the CTC amount and converting it to a monthly disbursement to families, has the potential to impact not only families and society, but also the macroeconomy. It certainly feels like this policy has been under the radar. I think this is for two reasons. First, we’re still in a pandemic which has altered our lives considerably in the past year. We have been preoccupied with that. Second, the enhanced CTC is only going to about 1 in 4 households (I get 23% in Oregon, 25% nationally when I crunch some rough numbers). As such, it is a targeted policy looking to reduce child poverty and increase the finances of low- and moderate-income households with young children. Additionally the policy looks like it will reduce racial income gaps, and could also impact labor force participation among some parents who work part-time.

Now there are at least two big challenges with the CTC that remain. One is that right now the monthly disbursements are only slated to last until December. Federal policymakers are discussing extending them, but without further legislation, they will end relatively soon. A temporary improvement in finances for young families is great, to any broader changes are unlikely. The second challenge is getting the payments to eligible households. Nearly half of households with kids in poverty do not file tax returns as they do not meet the threshold requirements. So CTC disbursements through the IRS means outreach to eligible households is even more important. After all you cannot cut child poverty considerably if those in need to not receive the payments!

Our office detailed the enhanced CTC back in April. Given the importance of the policy and the potential impacts, I am reupping the post and copying it below for those looking to learn more about the specifics, and some of the avenues in which we are likely to see impacts. What follows is an edited version of our previous work.

Included in the American Rescue Plan Act were some significant changes to the child tax credit for 2021. While some policymakers are looking to make these changes permanent, at this point they are for just 2021 only. These changes include an increase in eligibility, an increase in the size of the credit, and switching from a one-time credit every year when filing tax returns to periodic (monthly) payments directly to families. Each of these changes is noteworthy by itself and what follows takes a look at the implications here in Oregon.

First, the financial benefit for Oregon families is significant. The previous credit was for $2,000 per child less than 17 years old. The new credit is for children under 18 years old. For kids under 6 the amount is increased to $3,600 while those 6-17 years old it is increased to $3,000. Importantly the credit is also now fully refundable, allowing lower income families to receive the full amount unlike in years past.

Roughly, these changes increase Oregonian after-tax income by $1 billion or so. Building an analysis off of Census data, like our office does here, gets us $1 billion while sharing down the federal budget cost gets us more like $1.3 billion in Oregon.

Overall about 85% of Oregon families — defined as a related child and adult — will receive the enhanced credit due to the income limits of $75,000 filing single, $150,000 married filing jointly. For most families, the increase is right around $2,000 relative to the old credit. Broadly speaking the easiest way to think about this is the credit increased from $2,000 to $3,000 for most kids and the average family has two kids. There’s more nuance here based on expanded eligibility and the age of the kids but overall it mostly seems to even out to around $2,000 for most eligible households.

The enhanced child tax credit is a progressive policy, as seen in the chart below. Yes, it is a fairly flat, evenly distributed $2,000 for most families, however the boost in after-tax income this provides is much larger for lower-income households. For example, the median household with kids earns around $85,000 per year. They will receive a 2.6% boost in income from the enhanced child tax credit. However for households in poverty the boost is more like 5, 10, 15% or more. Researchers at Columbia University estimate that the enhanced credit will reduce U.S. child poverty by 45%, and by 46% here in Oregon. (Note that the chart below does not factor in the increased refundability.)

Additionally the enhanced credit will lessen racial and ethnic income disparities as well. This is for at least two reasons. Yes, Black, Indigenous, and People of Color in Oregon generally earn less money than their white, not Hispanic peers. However younger generations are also more diverse than older cohorts in the state. So young families are more likely to be diverse, and also earn less money because one parent may stay home to look after the kids and even those that are working are more likely to earn less income because s/he is still relatively early in her/his career.

Specifically what this analysis shows is that households with white, not Hispanic kids account for 66% of aggregate family income. However such households account for 59% of the increase in the credit. Put another way, households with BIPOC children account for 34% of income but will receive 41% of the increased credit. These relative changes are not drastically different, but boosting family-friendly policies do work to lessen racial and ethnic disparities.

This image has an empty alt attribute; its file name is ctcoregon.png

Second, while the overall boost to after-tax income is great for families, the switch to periodic payments has big implications as well. The IRS just announced they are expecting to begin monthly payments in July. Families will get half of the credit on their tax return when they file in April 2022, but the other half will be in direct payments from July through December 2021. As such, starting this summer, parents will begin receiving $250 or $300 per month per child, depending upon the child’s age.

As the Sightline Institute summarized last year, cash benefits offer flexibility for recipients that allows them to better spend on the things they need instead of being tied to specific products or categories. Additionally, monthly payments also better allow households to build the money into their regular budget and plan better financially then relying upon a large, one-time payment that is intertwined with everything else on a tax return. (Note this was part of the rationale with Make Work Pay, the Obama era payroll tax cut designed to boost household incomes coming out of the financial crisis.)

Third, the enhanced credit is being administered by the IRS. The IRS has a lot of recent experience dispersing the recovery rebates during the pandemic, which works quite well for the majority of households. However, that means it works well for those who file tax returns. If your family is a non-filer, usually because your income is below the filing threshold, signing up to receive the enhanced credit and monthly payments creates administrative hurdles. As the People’s Policy Project points out (H/T Michael Andersen), BIPOC families and those in poverty are much more likely to be non-filers. It’s based on a very small sample size here in Oregon, but we do get a question once a year about tax filing status from the household survey. As seen in the chart below, families in poverty are much less likely to file taxes, which means receiving the enhanced benefits requires more outreach and paperwork. This is something to keep an eye on in terms of policy effectiveness. The enhanced credit can only reduce poverty and boost family incomes to the extent that those eligible actually receive it.

This image has an empty alt attribute; its file name is nonfileror.png

Fourth and finally there may be some broader societal responses should such a policy be made permanent. We know childhood poverty impacts outcomes as an adult. For example, growing up in concentrated poverty is particularly bad for economic mobility. Should we see greater economic mobility in the decades ahead, that would be great news overall.

That said, recent discussions about unintended consequences tend to focus more on how parents will respond should they receive larger government benefits. Specifically will labor supply decline, leaving comparatively fewer available workers?

In short the answer is maybe. Some past research found that married spouses do work less when benefits increase. This is presumably an indication that one spouse was the primary earner and the other one worked to augment their incomes. The need to work a few hours on the side is lessened when benefits increase.

However, brand new research finds that the reforms and enhancements that Canada did a few years ago has not led to reduced labor supply, at least among single moms. Overall the Canadian reforms look a lot like the current 2021 child tax credit in the U.S., primarily a $3,000 child allowance that is paid out monthly. The linked paper above finds that the reforms did lead to a reduction in child poverty, an increase in after-tax income for parents, and no impact on labor supply. The focus on labor was primarily comparing employment among single moms and single women without kids. As such, it does not rule out any married spouse responses, but overall the findings are quite strong in terms of the policy outcomes.

Bottom Line: The enhanced child tax credit for 2021 will provide a noticeable boost to family incomes in Oregon and across the country. Based on the available data, and a similar Canadian policy, childhood poverty is set to decline in 2021. It is important to keep in mind that public policies can create unintended consequences. At some point there is a tradeoff between the generosity of government programs and earned income. But we also know that forcing children into poverty so that their parents have to work isn’t a great baseline either. A key question is where do we draw that line? Better yet how do we design programs to avoid fiscal cliffs, and high marginal tax rates as households move up in the income distribution? Monitoring the socio-economic outcomes from policy changes, and then adjusting those policies as needed is paramount. However to really analyze such changes, the enhanced child tax credit, or something of its ilk, needs to last more than a single year.

Posted by: Josh Lehner | July 9, 2021

No Permanent Damage Expected

Happy Friday! Just a couple of charts from our latest forecast. The good news is our office is not expecting any long-run, permanent damage this cycle, unlike recent experiences. Despite the supply constraints, this expansion will be quicker, and more complete than recent cycles. In the aftermath of each of the past two recessions, there was a big downgrade to the economic outlook, relative to pre-recession expectations. We never regained the old trend line. The economy was on a lower, and slower path. But not this time. We expect employment to come close to regaining the old trajectory — the out years will ultimately depend on migration flows in the years ahead. And we know incomes are up today, but expect as the federal aid fades, growth will slow but remain a bit stronger than we forecasted pre-pandemic. These underlying dynamics — plus asset markets and corporate profits — are the key reason why our forecasts for state revenue are likewise higher than they were a year and a half ago.

Posted by: Josh Lehner | July 2, 2021

Oregon Income is Strong

This morning we received the national June jobs report. Another very strong month for job gains, and ongoing wage increases. It is encouraging to see these dynamics continue to play out as the labor market recovers from the pandemic. Our office’s forecast has front-loaded the growth this cycle due to the income and spending dynamics, however the risks in a supply-constrained economy are for slower gains and a little bit higher inflation unless the supply side can ramp up quicker and productivity accelerates further. With that said, let’s dig a bit into the latest income data.

First, just to reiterate, the reason the underlying economic outlook is so bright is this chart. Households have around $2.5 trillion in excess savings, much of it just sitting in bank accounts ready to be spent should they want to. Our advisors indicate that retail deposits in local banks and credit unions show the same patterns locally. Of course the strong incomes are due to the federal policy response. The stated goal with the recovery rebates and enhanced unemployment insurance benefits was to make households financially whole during a global pandemic. At the macro level, a job well done. When you combine the strong income numbers with reduced spending due to both public health restrictions and fearful consumers, it paints a very robust picture of household balance sheets moving forward.

OK, let’s dig into the Oregon numbers now. The next chart shows total personal income in Oregon across recent business cycles. Clearly this cycle is different. Even as the temporary federal aid fades, income is expected to be stronger than in the recent long-lasting, demand-driven cycles following the dotcom and housing busts. Note that the solid lines represent actual data, and the dotted lines are our office’s forecast.

Given we know much of the strong incomes today are due to that federal aid, let’s take a look at the underlying income trends in the economy. Given we went through such a deep recession a year ago, the fact these underlying incomes have bounced back so quickly is a testament to the nature of the shock, and the resiliency of the economy. It should also be noted that we cannot account for the indirect effects of the federal aid as well, as without that the rebound would not be as swift either. Note that this chart also strips out our estimates of the impact of PPP loans for small businesses which do show up in the nonfarm proprietors income numbers.

Speaking of proprietors income, the impacts from the PPP are huge — however imperfect the program may be in terms of the rollout and the paperwork. See our office’s previous look at the first round of PPP by industry and county in the state. More importantly, see our dive into the relatively few business closures we have seen during the pandemic and why that is also an encouraging trend for the overall outlook.

Finally, let’s look at wages in Oregon. Given we still have such a large jobs hole in the labor market, the fact total wages have rebounded this strongly is remarkable. Encouragingly, as we recently detailed, these wage gains are not just an artifact of industry composition, but mostly due to strong, underlying wage growth for workers. This pattern is expected to continue given the bright economic outlook, and a labor market that is tighter than you might think.

Posted by: Josh Lehner | June 30, 2021

The Fever is Broken

We made it back home just in time for the heat dome. The worst of it is over for the western part of the state while central and eastern Oregon have another day or two it looks like. But even then, the forecast calls for merely hot instead of extreme temperatures. It’s likely the risks have increased in terms of the impact from the current drought, and any fallout from this year’s wildfire season. While I know many of you found our office’s old post on air conditioning, I did want to share two charts this morning based on the new 2019 American Housing Survey data that was released last fall.

First, major metros on the West Coast have the lowest rate of AC usage in the country. If we combine the 2017 and 2019 AHS data (the metros rotate) Portland ranks 4th lowest out of the 35 in the data. One in five Portland households do not have AC, more than double the national share.

Second, a question I have seen pop up a number of times in recent days is why doesn’t the NW have more air conditioning? Shouldn’t AC be increasing noticeably due to climate change? As seen in the chart below, it very much is. In the past 15 years, Portland’s AC usage has basically doubled, going from 43% in 2002 to 79% in 2019. For much of the late 20th Century, Portland’s AC usage trailed the nation by about 40 percentage points. Today it is 13 percent. Seattle has gone from trailing the nation by 60-70% to “just” 47% today as AC usage has tripled in recent decades going from 15% in 2004 to 44% in 2019.

More importantly for the health of our neighbors and ourselves, the actual number of households without AC has fallen outright. Between 2002 and 2019, the number of households in the Portland region without AC declined by more than 250,000. It’s not just that new construction is boosting the AC figures (it does) but that older units are adding AC at the same time. The same overall pattern is seen in the fishing village up north, but starting from a much lower base of AC usage likely in part to being both on the water, and further north.

Posted by: Josh Lehner | June 22, 2021

Federal Aid Mutes Job Loss Impact Across States

This morning the Bureau of Economic Analysis released the 2021q1 state personal income data. Click over there to dive in yourself. I am likely currently stuck in a bison-induced traffic jam somewhere in Middle America. But that doesn’t mean you get off that easy. I do have an updated look at incomes across the U.S. for you. (And will dig into the new data in the weeks ahead, after I return.)

We know this cycle is different. We tend to usually think of state’s economies, and incomes tracking with the labor market, because they usually do. But not so far in the pandemic. Regardless of local employment trends, or the various return to normal type indices of activity, personal income growth is pretty much the same across all states. The reason is simple: federal aid. In particular the enhanced unemployment insurance benefits help states with larger job losses, and the recovery rebates went to households in every state. Remember, the goal of the federal aid was to ensure that unemployed workers did not have to take a job for financial reasons if they didn’t want to during a global pandemic*.

You can see this overall dynamic in the scatterplot below. Let’s first start with the light blue dots, which compare employment loss and changes in wages. As expected there is a clear, strong relationship. States with larger job losses, experienced larger declines in wages (or smaller gains). That’s pretty straightforward. Now, let’s shift to the dark blue dots. Here you can see there is hardly any relationship between job loss and total personal income growth last year. In fact if you look at the coefficients in the simple regressions and do the math, it shows that the federal aid mutes about 87% of the impact of job losses when comparing wages and total income. That’s not a perfect calculation, but the impact, and magnitude of federal aid is clear.

Now, this pattern should have held through today’s new data for 2021q1 given we saw large recovery rebates in March (the $1,400 per person). Moving forward, we would expect to see state incomes diverge based upon those underlying economic and labor market gains. States with strong job growth will see stronger income gains. However we’re not at that point in the cycle and expansion yet, thanks to federal aid which has more than plugged the financial hole caused by the pandemic.

* I put strong household incomes at the top of the list of labor supply constraints today, but the impact of the rebates will fade and the UI expires in a couple of months, these are temporary.

Posted by: Josh Lehner | June 16, 2021

Wages Level Up

The labor market is tighter than you think. That’s the title of the joint report our office released a couple months ago with the Employment Department. In that report we wrote, “[a]t some point, declining COVID-related frictions, competition to hire workers, and relatively low unemployment will push to a market clearing wage that pulls more people back into the labor force.” Well, we’re seeing this play out in real time as it is clear firms are not responding to the pandemic like the long-lasting, demand-driven recessions experienced in recent decades.

Let’s first take a look at our office’s wage forecast that underlies both our economic and revenue outlook. You can see that the average wage has increased significantly so far during the pandemic, rising nine percent above trend. Our office has also built in a higher wage outlook over the long run. Wages have leveled up. These gains are seen in our withholding tax revenue as well. Now, the initial increase in wages was due to compositional changes. With the pandemic and shutdowns, the economy lost a lot of low-wage jobs, meaning that the average wage for those who kept their jobs was higher, even if per worker wages held steady.

But we know per worker wages have not held steady. The Atlanta Fed’s wage tracker shows continuing wage gains, unlike the past couple of cycles where wages sagged in part due to the nature of the cycle and the high number of unemployed workers per job opening. We know this cycle is different. What’s interesting to find, if you dig into the data further, is that the impact from the compositional changes in the labor market is mostly gone now based on the latest U.S. data. Overall, weekly earnings have increased nearly 8% since the start of the pandemic (annualized 6.5%). However if we hold the industry mix steady at pre-pandemic shares, earnings have risen just over 6% (annualized 5.3%), or 82% as much as the topline data. These are strong, underlying gains. (See methodology note at the end for more details)

If we look at these changes relative to pre-pandemic trends, you can see the evolution more clearly. Initially the spike in earnings was entirely due to the compositional changes, or the mix of industry employment. However over the past year, those underlying earnings have really picked up (combination of number of hours worked, and the hourly wage). As of April, 69% of the above-trend earnings gains are due to that underlying growth, with just 31% due to the industry mix.

So what does this mean? A number of things.

First, strong gains are expected to continue. The competition for workers is expected to remain fierce even as some of the unique pandemic circumstances holding back labor supply fade in the months ahead. Firms will need to get used to these dynamics. This is especially true within the lower rungs of the wage distribution, where wages were rising fastest even before the pandemic.

Second, wages are sticky. This is good news for workers. Employers rarely cut wages outright so the recent increases in pay should hold in the years to come.

Third, we are already seeing these dynamics play out in Oregon based on the latest job vacancy survey data from our friends over at the Employment Department. Starting wages for both retail, and transportation and warehousing have risen about $2 per hour in the past year. However they have not (yet) for leisure and hospitality. This industry competition is an additional hurdle for bars and restaurants as they staff back up. The data show that starting wages in retail now outpace leisure by $3.50 per hour, and transportation and warehousing outpace leisure by $7 per hour. To the extent we do see labor reallocation (workers moving into different industries), these are key numbers to keep in mind.

Fourth, the good news for firms is strong consumer demand means they can better afford to pay higher wages and pass along necessary cost increases to maintain profit margins. Plus the additional investment in equipment, IT, software, and the like we are seeing will further raise productivity, creating a virtuous cycle.

Fifth, stronger wage gains, and firms ability to pass along cost increases does indicate inflation that may be stronger in the years ahead, even as the reopening-related inflationary pressures fade. We are not talking about hyperinflation, but rather underlying gains stronger than we saw last decade. To the extent we do not get the productivity gains, then inflationary pressures in a supply-constrained economy will likely be larger.

Sixth, the key question is just how far do wages level up? In our forecast (first chart) we have wages slowing in the year ahead as those compositional effects reverse (we will be adding a lot of low-wage jobs back into the calculation). However given the updated analysis above and the job vacancy survey data, the risks are likely even more to the upside than we anticipated. Note that our most recent forecast marked the first time we raised the wage outlook over the entire forecast horizon like this and eliminated any expected recession-related weakness in the underlying trends. To be honest, at the time we developed the forecast – about two months ago – it felt like we were sticking our necks out. Some major national forecasters all had wages reverting to trend. This change is a major reason why the revenue forecast increased so much as well. But now the question is just how strong wage growth will remain, and to what extent those underlying gains offset the industry mix impact in the year ahead.

Finally, these dynamics are good news overall. They also mean the upcoming transition off the enhanced unemployment insurance benefits should be less of a concern. More-plentiful, and better-paying job opportunities are usually the key to drawing folks back into the workforce as well. And given the strong underlying earnings growth, it is possible that housing affordability may not be worsening as much as we think.

Methodology Note: For the decomposition work, I am using CES data for the private sector at a combination of the 3 and 4 digit NAICS level (110 subsectors in all). The earnings data is missing for rail, water, pipeline, and scenic transportation, and for education services, but all other private sector industries are included. This is granular enough to provide a solid look and account for the industry mix changes seen in the past year. To adjust for those, I weight the weekly earnings by sector by their 2019 average employment share of the total, and add them together to create the red line.

Posted by: Josh Lehner | June 8, 2021

Growth in a Supply-Constrained Economy

Economic growth is surging as the pandemic wanes. Thanks to federal fiscal policy, consumers have higher incomes today than before COVID-19 hit. Now they are increasingly allowed to and feel comfortable resuming pandemic-restricted activities like going out to eat, on vacations, getting haircuts and the like. The outlook for near-term economic growth is the strongest in decades, if not generations.

Given the strong underlying drivers of growth, the question becomes just how fast can the economy actually grow? Already supply constraints are evident in semiconductors, lumber, and rental cars to name a few. See our office’s table below for a broader view. Moving forward other short-term challenges of supply keeping pace with demand will emerge as well. Much of these constraints are expected to be temporary. Increased production and more efficient logistics will boost supply while higher prices and slower income growth as the federal aid runs out will cool demand somewhat. Better balance can be expected, although the path forward this year will likely be bumpier than expected.

The good news is some classic supply constraints like energy costs and credit availability are not currently issues holding back economic growth. The current issues largely revolve around production capacity, getting goods to market, and labor availability.

Currently, inventories are lean and demand is strong. Production needs to increase to meet the strong level of sales, which boosts overall economic growth. However many manufacturing sectors are already operating at or near capacity. They are constrained. To produce more, these industries need to invest in new plants and equipment, or add another shift. The overall economy reached this same point back in 2018-19 but the business investment never fully materialized as the trade war dampened demand even as the corporate tax cuts boosted incentives. This was before the pandemic put all investment plans on hold.

Today, these constrained sectors are currently facing the same choice, which has macroeconomic implications. On one hand, sales are high. To meet this demand and chase market share, profits, and the like, they need to make big, long-term investments. On the other hand, it is somewhat questionable just how sustainable these level of sales will be given the temporary federal boost to incomes, and the pandemic shifting consumer spending out of services and into durable goods and eating at home. See Jason Furman’s recent post and charts for a good look at current spending relative to trend.

Note that the constrained industries and those near capacity represent a 40% larger share of Oregon’s economy than they do nationwide (11.8% of Oregon GDP vs 8.3% of US GDP). We will have more on the regional manufacturing outlook in a follow-up post.

Overall, the best economic outcome would be to see new investments in production, which boosts both near-term growth, and raises long-run potential GDP as the productive capacity of the economy increases. The good news is that while industrial capacity as measured in real time in the Fed’s data isn’t really picking up yet, new orders for capital goods are booming, as is business investment in IT and software. Encouragingly R&D spending is doing well, and we might get additional federal spending in the pipeline too.

Now, of course the worst economic outcome here would be that production continues to be throttled due to capacity constraints and results in higher inflation but no real capacity increases.

Even so, the most talked about constraint on the economy today is labor, in part because it runs through all of these other issues. Attracting and retaining workers is already much more challenging than expected given the economy went through a severe recession last year. There are a variety of simultaneous factors impacting the number of available workers including strong household finances, the virus itself, and lack of childcare or in-person schooling. (See our office’s joint report with the Employment Department for more.) And while the temporary pandemic-related constraints will ease in the months ahead, the labor market is expected to remain tight for the foreseeable future in large part due to demographics and the large number of Baby Boomers retiring. Labor will remain a challenge for firms. But a tight labor market also works wonders for employees with strong wage gains and more plentiful job opportunities.

Outlook: This cycle is different. Overall the expectations are for exceptional economic growth this year and strong gains next. This economic recovery is front-loaded, unlike the last couple of long-lasting, demand-driven recessions. As such the risks primarily lie to the downside, not in terms of a double-dip recession, but in terms of growth “merely” being very good this year. That said, depending upon your horizon, these differences are not immaterial. Take our office’s forecast for example. The difference between a front-loaded recovery (red line) versus one that is not (dotted black line), has a big impact on the upcoming two year budget. The slower-paced recovery seen in the December forecast has average employment that is 2.7 percent lower over the next two years than the current, front-loaded outlook. Aggregate wages are 1.7 percent lower. (The smaller wage impact is due to the faster wage gains in recent months). Even as the current recovery will be stronger and more complete than recent cycles, the differences seen here are what you might expect in terms of growth in a supply-constrained economy.

Finally, for more on these issues, please see our latest economic and revenue forecast document. There is a good six pages on these supply constraints (with an Oregon focus) and another two pages on inflation. See our recent post on the drought, which is another supply constraint. Stay tuned for future posts on the local Oregon manufacturing outlook, and on the wage forecast.

Posted by: Josh Lehner | June 3, 2021

This Desert Life (Drought)

It would have been nice if we could have dealt with the global pandemic, then moved on to the drought and ensuring water issues before fire season started back up. Alas we are not in that alternative timeline. As we’re all aware, the western U.S. is in an extreme/exceptional drought. All of Oregon is in some form of worsening drought or another. What follows is first a map of the current drought status as of this week, followed by a few maps I have been using lately in presentations when discussing the issue.

These maps show where in Oregon agriculture matters the most. The total market value of products is shown on the left, based on the latest Census of Agriculture. The map on the right shows where farm earnings account for the largest share of all local income. The numbers listed in individual counties is what share of income farm earnings account for relative to the U.S. overall.

When it comes to the types of ag most impacted by drought, we tend to see the bigger impacts on grains and hay/alfalfa more than on nuts and berries, and on beef cattle and grazing lands more than dairy. Just how much of this is due to the resiliency of the type of product produced versus what is grown where the drought is most severe, can be a bit hard to disentangle. Even so, regional economies on the eastern side of the state, where ag takes on a larger importance, are more likely to suffer the direct impacts of the drought given the types of products grown and produced there.

Now, keep in mind that farm earnings are really more of a net number (income minus expenses). The full economic impact from agriculture is larger. Production costs in terms of machinery and the like are roughly twice that of the net farm earnings. Farm equipment costs a lot of money, and equipment sales really are business revenue for local suppliers. Including the cost of other farm inputs like buying feed, seed, fertilizer, and hired labor, doubles the broader impact again. Combined all of these production costs, which are an indicator of the broader economic importance, are 4-5 times as large as the farm earnings in recent years.

On one level, drought has a direct impact due to lost crops and reduced farm income. However the impacts could be seen across the entire supply chain, from reduced sales to those input suppliers, and reduced product heading to food processors and the like. Depending upon the severity, and how widespread the drought is, it can have price impacts even in global commodity markets, ultimately pushing consumer prices higher. The little bit of a silver lining is farmers will get better prices on the product they are able to harvest and sell.

Finally, just a quick update on ag exports which are doing quite well recently due to strong demand and higher commodity prices. The total values in recent quarters are now back to where they were prior to the trade war.

Older Posts »

Categories